The
Implementation of the Offer in Compromise Application Fee Reduced the Volume of
Offers Filed by Taxpayers at All Income Levels
June
2005
Reference Number: 2005-30-096
This report has
cleared the Treasury Inspector General for Tax Administration disclosure review
process and information determined to be restricted from public release has been
redacted from this document.
June 14, 2005
MEMORANDUM FOR
COMMISSIONER, SMALL BUSINESS/SELF-EMPLOYED DIVISION
FROM: Pamela J. Gardiner /s/ Pamela J. Gardiner
Deputy Inspector General for
Audit
SUBJECT: Final Audit Report - The Implementation of
the Offer in Compromise Application Fee Reduced the Volume of Offers Filed by
Taxpayers at All Income Levels (Audit # 200430018)
This report presents the results of our
review of the Internal Revenue Service’s (IRS) Offer in Compromise (OIC)
application fee. The overall objectives
of this review were to determine whether the implementation of the OIC
application fee effectively reduced the OIC workload without impeding taxpayer
rights and whether the IRS established adequate internal controls over the
receipt, return, deposit, and, if necessary, refund of the OIC application fee
payments.
In summary, the overall number of OICs filed since the
implementation of the OIC application fee has declined by 28 percent. There were 68,449 OICs received during the
pre-OIC application fee period of November 1, 2002, through June 30, 2003. In contrast, there were only 49,267 OICs
received during the post-OIC application fee period of November 1, 2003,
through June 30, 2004.
We
analyzed the OICs by income levels and determined that filings by taxpayers at
all income levels had declined by a range of 20 to 33 percent. For example, there was a 25 percent decline
in the volume of OICs filed by taxpayers with an income level greater than or
equal to $70,000 and less than $100,000.
However, we noted that taxpayers whose income was below the poverty
level were more affected than taxpayers above the poverty level. Filings by taxpayers below the poverty level
declined by 36 percent, while filings by taxpayers above the poverty level
declined by only 26 percent. Since
poverty-level taxpayers are exempt from the $150 OIC application fee, it is not
clear why there was a more significant decline in OIC filings by this group of
taxpayers. It is possible that initially
some poverty-level taxpayers were not aware of the exemption. However, beginning in early 2004, the IRS
conducted a media campaign to advise taxpayers of the OIC eligibility requirements
and the exemption.
The
IRS successfully implemented the OIC application fee process by developing the
proposal for regulations, obtaining input from stakeholders such as the tax
practitioner
community, developing instructions for the OIC application, training employees,
and providing oversight during the implementation phase. In addition, adequate controls and procedures
were generally established to account for OIC application fee payments. However, the IRS could improve some
procedural weaknesses over the security of the OIC application fee payments. Security provisions at both locations were
not fully adequate to prevent remittances from being lost or stolen without
detection.
We recommended the Director, Customer
Account Services, develop procedures to ensure personal checks being returned
to taxpayers are immediately stamped “Non-negotiable” when they are removed
from the secure cabinet and should also develop procedures to ensure negotiable
instruments being returned to taxpayers are sealed in secure mailing packages
as soon as they are removed from the secure cabinet. The Director, Campus Compliance Services,
should ensure the process of sorting new OICs has been moved into the
Centralized OIC (COIC) Unit area.
Management’s Response: IRS management agreed with our
recommendations. IRS management added an
addendum to the Standard Operating Procedures to have checks that have not been
stamped “Non-negotiable” upon receipt be held in locked containers. The Standard Operating Procedures were also
amended to have the mail clerk and shipping clerk jointly verify that the money
order, bank check, or government check is in the envelope and together seal the
envelope and place it in the United Parcel Service overnight bag for shipment
to the taxpayer. The process for sorting
new OICs was also moved to the COIC Unit area.
Management’s complete response to the draft report is included as
Appendix IV.
Copies
of this report are also being sent to IRS officials affected by the report
recommendations. Please contact me at
(202) 622-6510 if you have questions or Rich Dagliolo, Acting Assistant
Inspector General for Audit (Small Business and Corporate Programs), at (631) 654-6028.
The Policy of Charging Application Fees for Offers in Compromise Was Effectively Implemented
Appendix I – Detailed Objectives, Scope, and Methodology
Appendix II – Major Contributors to This Report
Appendix III – Report Distribution List
Appendix IV – Management’s Response to the Draft Report
An Offer in
Compromise (OIC) is an agreement between the Internal Revenue Service (IRS) and
a taxpayer that settles a tax liability for payment of less than the full
amount owed. The IRS is granted
authority to compromise tax liabilities in 26
The IRS estimates even the simplest OIC request costs approximately $500 to process, and a complex OIC costs much more. In 2002, the IRS requested permission from the Department of the Treasury and the Office of Management and Budget to begin charging an OIC application fee to defray some of the OIC program cost. The IRS invited the public and tax professionals to provide their reaction and comments. Formal hearings on the OIC application fee request were held in February 2003 and, despite widespread opposition, the $150 OIC application fee was implemented. One of the concerns was that low-income taxpayers such as those below the poverty level would not file OICs because of the application fee. As a result, the IRS exempted those below the poverty level from having to pay the fee.
The OIC application fee is required for all OICs postmarked after November 1, 2003. The funds will be used to reimburse the IRS for part of the expense of running the OIC program. The IRS expects the OIC application fee will deter unreasonable or frivolous OICs, thus allowing the available OIC staff to better handle the workload.
This review was performed in the
Centralized Offer in Compromise (COIC) Units at the Brookhaven,
One of the IRS’ goals in implementing the $150 OIC application fee was to reduce the volume of frivolous OIC filings. Through analysis of data maintained on the Automated Offer in Compromise (AOIC) system, we determined the volume of OICs received declined 28 percent after implementation of the OIC application fee.
More specifically, there were 68,449 OICs received during the pre-OIC application fee period of November 1, 2002, through June 30, 2003. In contrast, there were only 49,267 OICs received during the post-OIC application fee period of November 1, 2003, through June 30, 2004. The difference of 19,182 applications represents a 28 percent decline in receipts.
We obtained income data for 61,633 (90 percent) of the pre-OIC application fee OICs and 44,385 (90 percent) of the post-OIC application fee OICs. Income data were not available for the remaining OICs because the taxpayers had not filed the related returns. We stratified the data for each category based on differing levels of income and determined filings by taxpayers at all income levels had declined by a range of 20 to 33 percent.
For example, there was a 29 percent decline in the volume of OICs filed by taxpayers with an income level greater than or equal to $10,000 and less than $20,000. There was also a 25 percent decline in the volume of taxpayers filing OICs with an income level greater than or equal to $70,000 and less than $100,000. See Figure 1 for additional details.
Figure
1: OICs Filed by Income Level
Figure 1 was removed due to its size. To see Figure 1, please go to the Adobe PDF version of the report on the TIGTA Public Web Page.
The decline in OIC filings by taxpayers at all income levels may indicate the IRS was successful at reducing frivolous OIC filings. The IRS has not yet performed an analysis to determine whether frivolous OIC filings have been reduced. However, we noted taxpayers whose income was below the poverty level were more affected than taxpayers above the poverty level. Figure 2 shows the poverty level defined by the Department of Health and Human Services for each state.
Figure
2: 2004 Poverty-Level Guidelines
Figure 2 was removed due to its size. To see Figure 2, please go to the Adobe PDF version of the report on the TIGTA Public Web Page.
Based on these guidelines, our analysis of income data (as shown in Figure 3) indicates filings by taxpayers below the poverty level declined by 36 percent, while filings by taxpayers above the poverty level declined by only 26 percent.
Figure
3: OICs Filed by Poverty Level
Figure 3 was removed due to its size. To see Figure 3, please go to the Adobe PDF version of the report on the TIGTA Public Web Page.
Since
poverty-level taxpayers are exempt from the $150 OIC application fee, it is not
clear why there was a more significant decline in OIC filings by this group of
taxpayers. It is possible that initially
some poverty-level taxpayers were not aware of the exemption. However, beginning in early 2004, the IRS
conducted a media campaign to advise taxpayers of the OIC eligibility
requirements and the exemption. In
September 2004, the IRS began distribution of a new Offer in Compromise (Form
656). The new Form 656 provides
taxpayers the exemption form, Income Certification for Offer in Compromise
Application Fee (Form 656-A), as well as the Offer in Compromise (OIC)
Application Fee Worksheet with instructions for requesting an exemption from
the OIC application fee based on income.
The IRS has taken several actions to effectively implement the new OIC application fee. A new form, Form 656-A, was developed and included in the OIC package to help taxpayers determine if they qualify for the low-income exemption. Another new form, COIC Application Fee Tracking Report (Form 13479), was also developed to record and control the receipt of the fee.
Employees were provided training on the new OIC application fee procedures. As these procedures were being implemented, analysts were onsite to address any problems and provide guidance. As needed, procedure modifications were discussed through conference calls between the analysts and Campus management. A memorandum was issued providing additional procedural guidance in January 2005. Through follow-up visitations, analysts have also made recommendations to improve the OIC program at both Campuses. One recommendation was to establish procedures to expedite processability determinations for OICs with a $150 OIC application fee that are received in the COIC Unit later than 14 days from the date of IRS receipt.
The IRS has generally developed adequate internal controls over the OIC application fee to safeguard the Federal Government’s interest and protect taxpayers’ rights. Also the IRS was generally effective in accounting for OIC application fee payments. However, we identified a few minor procedural weaknesses in the security of OIC application fee payments that need to be addressed.
Controls and procedures are adequate for
processing OIC application fee payments
The COIC Units at both Campuses established a restricted access area that receives all new OICs. Upon receipt, OICs are date stamped, sorted, batched, and input to the AOIC system for control purposes. The OICs with an OIC application fee payment are also recorded on Form 13479. Additionally, when the OIC packages are forwarded for processing, the actual remittances (e.g., personal check, money order, or bank check) are maintained in a locked cabinet within the restricted access area at each COIC Unit. The remittances remain there until OIC processability has been determined.
Remittances for the OICs determined to be non-processable are to be returned to the taxpayer. Remittances in the form of a personal check are stamped “Non-negotiable” and mailed back to the taxpayer with the OIC package using regular mail. Other remittances, such as money orders or bank checks, would be voided if they were stamped “Non-negotiable.” Therefore, these types of remittances are enclosed with the OIC package unstamped and mailed back to the taxpayer using secure mail.
Application fees for the OICs determined to be processable are sent to the Submission Processing function to be deposited in the IRS OIC Application Fee account. We analyzed 139 OIC application fee payments received in the 2 COIC Units from January 1, 2004, through July 2, 2004, and determined 134 (96 percent) were deposited in the correct account. We determined the remaining five OIC application fee payments, all from the same Campus, were posted incorrectly to the IRS Photocopy Fee account. However, the Accounting function had either corrected or was in the process of correcting the posting for three of the five OIC application fee payments. We informed the Accounting function of the other two OIC application fee payments, and it agreed to correct them.
Procedures require the IRS to deposit the OIC application fee payment within 14 days from the date it receives an OIC. The COIC Units are using the Undetermined Offers – Detailed Listing as an overage report to identify OICs that need to be expedited. In our analysis of the 139 OIC application fee payments, we determined both COIC Units were meeting this goal. We also reviewed another 38 OIC application fee payments that were identified as being returned to the taxpayers. We confirmed, through Forms 13479, that all 38 were determined to be non-processable and all related OIC packages and application fees were to be returned to the taxpayers.
We reviewed the Undetermined Offers – Detailed Listings as of September 17 and 27, 2004, for the Brookhaven and Memphis Campuses, respectively. We identified 14 Brookhaven OIC application fee payments and 19 Memphis OIC application fee payments with IRS received dates over 12 days. We verified that appropriate and timely actions were taken on all 33 payments.
Security
over OIC application fee payments needs to be improved
We identified concerns over security of OIC application fee payments that need to be addressed at both Campuses. At one Campus, there was a security issue related to maintaining the fees in a locked container. At the other Campus, there was a security issue related to separation of duties.
The IRS is required to maintain remittances received for payment of taxes within a locked container. Both Campuses stored OIC application fees in locked cabinets with controlled access. However, at one Campus, security weaknesses provided opportunity for inappropriate access by IRS employees working within the restricted area.
In one instance, checks being returned to taxpayers with non-processable OIC packages were not immediately stamped “Non-negotiable” when they were removed from the locked cabinet. Instead, the clerk would place them on a table and wait until the end of the day to stamp all of the checks “Non-negotiable.”
In another instance, money orders and bank checks (negotiable instruments) being returned to taxpayers with non-processable OIC packages were not immediately shipped when they were removed from the locked cabinet. Instead, the clerk sealed the envelopes with cellophane tape. As with the “Non-negotiable” checks, the negotiable instrument packages were left out until the end of the day when the clerk would place them on the mail clerk’s desk. The mail clerk would place the envelopes into secure mailing packages for shipping.
In both instances, IRS management believed the controls in place were sufficient to provide for a separation of duties and to limit access to the OIC application fee payments.
At the other Campus, one COIC Unit clerk was responsible for sorting new OICs with OIC application fee payments, inputting them into the AOIC system, and recording OIC application fees on Form 13479. In accordance with the Standards for Internal Control in the Federal Government, key duties should be assigned to separate individuals. This helps to minimize the possibility of fraud, waste, or abuse going undetected. A factor that compounds this condition is the clerk conducted the sort in a secluded area of the mail room. To reduce the opportunity for misappropriating the OIC application fee payments, we suggested the clerk be limited to performing only the sort. IRS management informed us this was not a viable solution but proposed having the clerk conduct the sort within the COIC Unit area.
1.
Develop procedures to
ensure taxpayers’ returned personal checks are immediately stamped “Non-negotiable”
when they are removed from the secure cabinet.
Management’s
Response:
IRS management issued an addendum to the Standard Operating Procedures
requiring checks that are not stamped “Non-negotiable” upon receipt must be
held in a locked container.
2.
Develop procedures to
ensure taxpayers’ returned negotiable instruments are immediately sealed in
secure mailing packages as soon as they are removed from the secure cabinet.
Management’s Response: IRS management amended the Standard Operating
Procedures to state, “The mail clerk will bring an unsealed white envelope from
the secured cabinet to the shipping clerk who will verify that the money order,
bank check or government check is in the envelope. Together the two clerks seal the envelope,
and place it in the United Parcel Service overnight bag for shipment to the
taxpayer.”
3.
Ensure the process for sorting new OICs has been
moved into the COIC Unit area.
Management’s
Response:
IRS management has moved the process for sorting new OICs into the COIC
Unit area.
Appendix I
Detailed
Objectives, Scope, and Methodology
The overall objectives of this review were to determine whether
the implementation of the Offer in Compromise (OIC) application fee effectively
reduced the OIC workload without impeding on taxpayer rights and whether the Internal
Revenue Service (IRS) established adequate internal controls over the receipt,
return, deposit, and, if necessary, refund of the OIC application fee payments. Specifically, we:
I.
Determined whether the
implementation of the OIC application fee effectively reduced the OIC
workload without impeding taxpayer rights.
A.
Obtained a computer
extract of 204,877 OICs from the Automated
Offer in Compromise (AOIC) system received during the period October 1, 2002,
through July 2, 2004. (Note: We limited
the post-OIC application fee OICs to those 49,267 received during the period
November 1, 2003, the date the fee was implemented, through June 30, 2004. For comparison purposes, we also limited the
pre-OIC application fee OICs to those 68,449 received during the period
November 1, 2002, through June 30, 2003.)
B.
Obtained income-level
information from the Individual Master File Returns Transaction File for 44,385
of the post-OIC application fee OIC taxpayers and 61,633 of the pre-OIC
application fee OIC taxpayers identified in Step I.A. Income data were not
available for the remaining OICs because the taxpayers had not filed the
related returns.
C.
Determined whether the
implementation of the OIC application fee had a limiting effect on the types of
taxpayers filing OICs from Step I.B.
II.
Determined whether the
IRS developed adequate controls over the OIC application fee payments to ensure
they are either deposited or refunded timely.
A.
Selected a
statistically valid sample of 245 OICs, based on a 95 percent confidence
level with a +5 percent precision level and an estimated error rate of
20 percent, from a computer extract of 49,129 OICs from the AOIC system with an IRS received date from
January 1, 2004, through July 2, 2004.
B.
Determined whether timely
and appropriate actions were taken on the 245 sample OIC cases identified in Step
II.A. by analyzing the information from the AOIC system Fee screens and History
sections.
1.
Determined 177 of the
245 OIC cases included OIC application fee payments and the remaining 68 did
not.
2.
Determined whether the
COIC Application Fee Tracking Report (Form
13479) was appropriately used to record the receipt of 177 OIC application fee
payments.
3.
Determined 139 of the
177 OIC cases with application fee payments were identified as processable and
the remaining 38 were identified as non-processable.
4.
Determined whether the
AOIC system Fee screens properly recorded the OIC application fee payments for
139 processable OICs.
5.
Determined whether the
OIC application fee payments were deposited timely for 139 processable OICs.
III.
Determined whether the
IRS developed a management information system to alert managers to problems
that may arise with OIC application fee payments and verified whether
appropriate and timely actions were taken on 33 OIC application fee
payments. These payments represent the
universe of cases on the Undetermined Offers – Detailed Listings, with IRS
received dates over 12 days, as of September 17, 2004, for the Brookhaven
Campus (14 cases) and as of September 27, 2004, for the Memphis Campus (19
cases).
Appendix II
Major
Contributors to This Report
Rich Dagliolo, Acting Assistant Inspector General for Audit (Small
Business and Corporate Programs)
Parker Pearson, Director
Amy Coleman, Audit Manager
Lynn
Rudolph, Lead Auditor
Todd
Anderson, Senior Auditor
Marcus
Sloan, Auditor
Appendix III
Commissioner
C
Office of the Commissioner – Attn: Chief of Staff C
Deputy Commissioner for Services and
Enforcement SE
Commissioner, Wage and Investment SE:W
Deputy Commissioner, Small
Business/Self-Employed Division SE:S
Deputy Commissioner, Wage and Investment SE:W
Director, Campus Compliance Services, Small
Business/Self-Employed Division SE:S:CCS
Director, Customer Account Services SE:W:CAS
Director, Collection, Small
Business/Self-Employed Division SE:S:C
Chief Counsel
CC
National Taxpayer Advocate TA
Director, Office of Legislative Affairs CL:LA
Director, Office of Program Evaluation and
Risk Analysis RAS:O
Office of Management Controls OS:CFO:AR:M
Audit Liaison: Commissioner, Small
Business/Self-Employed Division SE:C
Appendix IV
Management’s
Response to the Draft Report
The
response was removed due to its size. To
see the response, please go to the Adobe PDF version of the report on the TIGTA
Public Web Page.